UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___________ to __________
COMMISSION FILE NUMBER: 0-49771
MERCHANTS BANCORP, INC.
(Exact name of registrant as specified in its charter)
Ohio 31-1467303
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
100 North High Street, Hillsboro, Ohio 45133
(Address of principal executive offices) (Zip Code)
(937) 393-1993
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common stock - 3,000,000 shares outstanding at November 1, 2002
1
PART I - FINANCIAL INFORMATION
ITEM 1. CONDENSED FINANCIAL STATEMENTS
The accompanying information has not been audited by independent public
accountants; however, in the opinion of management such information reflects all
adjustments necessary for a fair presentation of the results for the interim
period. All such adjustments are of a normal and recurring nature.
The accompanying financial statements are presented in accordance with the
requirements of Form 10-Q and consequently do not include all of the disclosures
normally required by accounting principles generally accepted in the United
States of America or those made in the Registrant's Form 10. Accordingly, the
reader of the Form 10-Q should refer to the Registrant's Form 10 for the year
ended December 31, 2001 for further information in this regard.
2
MERCHANTS BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 2002 AND DECEMBER 31, 2001 (IN THOUSANDS EXCEPT SHARE DATA)
- --------------------------------------------------------------------------------
SEPTEMBER 30, DECEMBER 31,
2002 2001
ASSETS (UNAUDITED)
CASH AND CASH EQUIVALENTS:
Cash and due from banks $ 9,497 $ 13,570
Interest-bearing deposits in banks 4,618
Federal funds sold 16,600
-------- --------
Total cash and cash equivalents 9,497 34,788
-------- --------
SECURITIES AVAILABLE FOR SALE
(amortized cost of $42,865 and $37,423, respectively) 44,508 38,221
-------- --------
LOANS 248,149 223,727
Less allowance for loan losses (2,162) (1,960)
-------- --------
Net loans 245,987 221,767
-------- --------
OTHER ASSETS:
Bank premises and equipment, net 4,389 4,343
Accrued interest receivable 3,487 2,957
Other 2,929 2,820
-------- --------
Total other assets 10,805 10,120
-------- --------
TOTAL $310,797 $304,896
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES:
Deposits:
Noninterest bearing $ 29,837 $ 31,220
Interest bearing 223,328 231,388
-------- --------
Total deposits 253,165 262,608
-------- --------
Repurchase agreements 2,435 1,424
Federal funds purchased 2,675
FHLB borrowings 17,476 8,993
Other liabilities 1,663 1,639
-------- --------
Total liabilities 277,414 274,664
-------- --------
SHAREHOLDERS' EQUITY:
Common stock - no par value; 4,500,000 shares authorized
and 3,000,000 shares issued and outstanding 2,000 2,000
Additional paid-in capital 2,000 2,000
Retained earnings 28,298 25,710
Accumulated other comprehensive income 1,085 522
-------- --------
Total shareholders' equity 33,383 30,232
-------- --------
TOTAL $310,797 $304,896
======== ========
See notes to condensed consolidated financial statements.
3
MERCHANTS BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS EXCEPT PER SHARE DATA)
- --------------------------------------------------------------------------------
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------- -----------------------
2002 2001 2002 2001
(unaudited) (unaudited)
INTEREST INCOME:
Interest and fees on loans $4,783 $5,099 $13,922 $15,344
Interest and dividends on securities:
Taxable 346 418 1,121 1,360
Exempt from income taxes 248 128 681 381
Interest on federal funds sold and other
short-term investments 1 82 91 125
------ ------ ------- -------
Total interest income 5,378 5,727 15,815 17,210
------ ------ ------- -------
INTEREST EXPENSE:
Interest on deposits 1,631 2,586 5,368 7,928
Interest on repurchase agreements and
federal funds purchased 43 19 81 97
Interest on FHLB borrowings 221 118 661 325
------ ------ ------- -------
Total interest expense 1,895 2,723 6,110 8,350
------ ------ ------- -------
NET INTEREST INCOME 3,483 3,004 9,705 8,860
PROVISION FOR LOAN LOSSES (138) (52) (367) (168)
------ ------ ------- -------
NET INTEREST INCOME AFTER PROVISION 3,345 2,952 9,338 8,692
FOR LOAN LOSSES
NONINTEREST INCOME - Service charges and fees 400 388 1,131 1,048
------ ------ ------- -------
NONINTEREST EXPENSE:
Salaries and employee benefits 938 821 2,684 2,511
Occupancy 283 275 835 795
Legal and professional services 159 63 478 204
Franchise tax 68 70 220 221
Data processing 71 64 202 180
Advertising 92 69 186 160
Other 276 299 814 814
------ ------ ------- -------
Total noninterest expense 1,887 1,661 5,419 4,885
------ ------ ------- -------
INCOME BEFORE INCOME TAXES 1,858 1,679 5,050 4,855
INCOME TAXES 603 537 1,622 1,533
------ ------ ------- -------
NET INCOME $1,255 $1,142 $ 3,428 $ 3,322
====== ====== ======= =======
BASIC AND DILUTED EARNINGS PER SHARE $ 0.42 $ 0.38 $ 1.14 $ 1.11
====== ====== ======= =======
See notes to condensed consolidated financial statements.
4
MERCHANTS BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2002 and 2001 (in thousands)
- --------------------------------------------------------------------------------
2002 2001
(UNAUDITED)
OPERATING ACTIVITIES:
Net income $ 3,428 $ 3,322
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 663 473
Provision for loan losses 367 168
Gain on sale of mortgage loans (134) (128)
Proceeds from sale of mortgage loans 8,755 10,405
Mortgage loans originated for sale (8,621) (10,277)
Changes in assets and liabilities:
Accrued interest receivable (530) (759)
Other assets (392) (196)
Accrued interest, taxes and other liabilities 25 (318)
-------- --------
Net cash provided by operating activities 3,561 2,690
-------- --------
INVESTING ACTIVITIES:
Proceeds from sales and maturities of securities
available for sale 11,345 7,022
Purchases of securities available for sale (16,963) (3,960)
Net increase in loans (24,587) (8,073)
Capital expenditures (533) (338)
-------- --------
Net cash used in investing activities (30,738) (5,349)
-------- --------
FINANCING ACTIVITIES:
Net (decrease) increase in deposits (9,443) 13,766
Net (decrease) increase in repurchase agreements 1,011 (507)
Net federal funds purchased 2,675 (4,800)
Net FHLB borrowings 8,483 1,998
Dividends paid to stockholders (840) (720)
-------- --------
Net cash provided by financing activities 1,886 9,737
-------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (25,291) 7,078
CASH AND CASH EQUIVALENTS:
Beginning of year 34,788 10,323
-------- --------
End of period $ 9,497 $ 17,401
======== ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for federal income taxes $ 1,681 $ 1,345
======== ========
Cash paid during the period for interest $ 6,218 $ 8,410
======== ========
See notes to condensed consolidated financial statements.
5
MERCHANTS BANCORP, INC. AND SUBSIDIARY
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
- --------------------------------------------------------------------------------
1. SUMMARY OF SIGNIFICANT ACCOUNTING AND REPORTING POLICIES
The unaudited condensed consolidated financial statements include the
accounts of Merchants Bancorp, Inc. and its wholly-owned subsidiary,
Merchants National Bank (collectively, the "Company"). All significant
intercompany balances and transactions have been eliminated in
consolidation.
In the opinion of management, these condensed consolidated financial
statements include all adjustments (which consist of normal recurring
accruals) necessary to present the condensed consolidated financial
position as of September 30, 2002 and the results of operations and cash
flows for the three and nine months ended September 30, 2002 and 2001.
These condensed consolidated financial statements have been prepared in
accordance with instructions to Form 10-Q, and therefore do not include all
information and footnote disclosures necessary for a fair presentation of
financial position, results of operations and cash flows in conformity with
accounting principles generally accepted in the United States of America.
Financial information as of December 31, 2001 has been derived from the
audited consolidated financial statements of Merchants Bancorp, Inc. and
subsidiary. The results of operations and cash flows for the three and nine
months ended September 30, 2002 and 2001 are not necessarily indicative of
the results to be expected for the full year. For further information,
refer to the consolidated financial statements and footnotes thereto for
the year ended December 31, 2001, included in the Company's Form 10.
Earnings per Share - Basic earnings per share is computed using the
weighted average number of shares of common stock outstanding during the
period. For the three and nine months ended September 30, 2002 and 2001,
the Company had three million shares outstanding. There were no common
stock equivalents outstanding during the respective periods.
New Accounting Pronouncements - Effective January 1, 2002, the Company
adopted Statement of Financial Accounting Standards ("SFAS") No. 142,
"Goodwill and Other Intangible Assets." SFAS No. 142 requires that goodwill
and certain intangibles no longer be amortized, but instead tested for
impairment at least annually. The adoption of this statement did not have
any impact on the Company's consolidated financial statements.
SFAS No. 143, "Accounting for Asset Retirement Obligations," was issued in
August 2001. SFAS No. 143 requires that the fair value of a liability be
recognized when incurred for the retirement of a long-lived asset and the
value of the related asset be increased by that amount. It also requires
that the liability be maintained at its present value in subsequent periods
and outlines certain disclosures for such obligations. The adoption of this
statement, which is effective January 1, 2003, is not expected to have a
material impact on the Company's consolidated financial statements.
SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets," which replaces SFAS No. 121, was issued in October 2001. This
statement primarily defines one accounting model for long-lived assets to
be disposed of by sale, including discontinued operations, and addresses
implementation issues regarding the impairment of long-lived assets. The
adoption of this statement, which was effective January 1, 2002, did not
have an impact on the Company's consolidated financial statements.
6
SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal
Activities," was issued in June 2002. SFAS No. 146 requires recording costs
associated with exit or disposal activities at their fair values when a
liability has been incurred. Under previous guidance, certain exit costs
were accrued upon management's commitment to an exit plan, which is
generally before an actual liability has been incurred. The adoption of
this statement, which is effective January 1, 2003, is not expected to have
a material impact on the Company's consolidated financial statements.
SFAS No. 147, "Acquisitions of Certain Financial Institutions", was issued
in October 2002. This statement clarifies that, if certain criteria are
met, an acquisition of a less-than-whole financial institution (such as a
branch acquisition) should be accounted for as a business combination. SFAS
No. 147 states that, in such instances, the excess of the fair value of
liabilities assumed over the value of tangible and identifiable intangible
assets acquired represents goodwill. Prior to SFAS No. 147, such excesses
were classified as an unidentifiable intangible asset subject to continuing
amortization under SFAS No. 142. As a result of SFAS No. 147, entities are
required to reclassify and restate both the goodwill asset and amortization
expense as of the date SFAS No. 142 was adopted. In addition, SFAS No. 147
amends SFAS No. 144 to include in its scope long-term customer-relationship
intangible assets of financial institutions such as depositor- and
borrower-relationship intangible assets. As a result, those intangible
assets are subject to the same undiscounted cash flow recoverability test
and impairment loss recognition and measurement provisions that SFAS No.
144 requires for other long-lived assets that are held and used by a
company. SFAS No. 147 is effective October 1, 2002 and is not expected to
have a material impact on the Company's financial statements.
Reclassifications - The Company has reclassified certain prior year amounts
to conform with the current year presentation.
2. LOANS
Major classifications of loans are summarized as follows (in thousands):
SEPTEMBER 30, DECEMBER 31,
2002 2001
(UNAUDITED)
Commercial real estate $ 50,223 $ 41,917
Commercial and industrial 25,313 24,088
Agricultural 44,244 34,313
Residential real estate 100,016 97,182
Installment 26,703 24,960
Other 1,650 1,267
-------- --------
Total 248,149 223,727
Less allowance for loan losses (2,162) (1,960)
-------- --------
$245,987 $221,767
======== ========
The Company did not have any loans held for sale at September 30, 2002 or
December 31, 2001.
3. FHLB BORROWINGS
All stock in the Federal Home Loan Bank ("FHLB") and qualifying first
mortgage residential loans are pledged as collateral on FHLB borrowings.
Maturities and interest rates of advances from the FHLB at September 30,
2002 are as follows (in thousands):
7
INTEREST
MATURITY RATE AMOUNT
April 10, 2008 5.4% $ 1,000
September 25, 2008 4.8% 3,000
March 15, 2010 6.3% 3,000
September 1, 2011 5.2% 476
January 3, 2012 4.6% 10,000
-------
Total $17,476
=======
The maximum amount available to the Company under FHLB borrowings was
approximately $59.1 million and $59.5 million as of September 30, 2002 and
December 31, 2001, respectively.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
Merchants Bancorp, Inc. (the "Company") is a bank holding company and sole
shareholder of Merchants National Bank (the "Bank"), headquartered in Hillsboro,
Ohio. At September 30, 2002, the Company had total assets of approximately
$310.8 million and total shareholders' equity of approximately $33.4 million.
The Company, through its banking affiliate, offers a broad range of banking
services to the commercial, industrial and consumer market segments which it
serves. The primary business of the Bank consists of accepting deposits through
various consumer and commercial deposit products, and using such deposits to
fund various loan products. The Bank's primary loan products are as follows: (1)
loans secured by residential real estate, including loans for the purchase of
one to four family residences which are secured by 1st and 2nd mortgages and
home equity loans; (2) consumer loans, including new and used automobile loans,
loans for the purchase of mobile homes and debt consolidation loans; (3)
agricultural loans, including loans for the purchase of real estate used in
connection with agricultural purposes, operating loans and loans for the
purchase of equipment; and (4) commercial loans, including loans for the
purchase of real estate used in connection with office or retail activities,
loans for the purchase of equipment and loans for the purchase of inventory.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires the appropriate
application of certain accounting policies, many of which require us to make
estimates and assumptions about future events and their impact on amounts
reported in our financial statements and related notes. Since future events and
their impact cannot be determined with certainty, the actual results will
inevitably differ from our estimates. Such differences could be material to the
financial statements.
The Company believes the application of accounting policies and the estimates
required therein are reasonable. These accounting policies and estimates are
constantly reevaluated, and adjustments are made when facts and circumstances
dictate a change. Historically, the Company has found its application of
accounting policies to be appropriate, and actual results have not differed
materially from those determined using necessary estimates.
The Company's accounting policies are more fully described in Note 1 to the
condensed consolidated financial statements.
8
Management believes that the determination of the allowance for loan losses
represents a critical accounting policy. The Company maintains an allowance for
loan losses to absorb probable loan losses inherent in the portfolio. The
allowance for loan losses is maintained at a level management considers to be
adequate to absorb probable loan losses inherent in the portfolio, based on
evaluations of the collectibility and historical loss experience of loans.
Credit losses are charged and recoveries are credited to the allowance.
Provisions for loan losses are based on management's review of the historical
loan loss experience and such factors which, in management's judgment, deserve
consideration under existing economic conditions in estimating probable credit
losses. The allowance is based on ongoing assessments of the probable estimated
losses inherent in the loan portfolio. The Company's methodology for assessing
the appropriate allowance level consists of several key elements, as described
below.
Larger commercial loans that exhibit probable or observed credit weaknesses are
subject to individual review. Where appropriate, reserves are allocated to
individual loans based on management's estimate of the borrower's ability to
repay the loan given the availability of collateral, other sources of cash flow
and available legal options. Included in the review of individual loans are
those that are impaired as provided in Statement of Financial Accounting
Standards No. 114, "Accounting by Creditors for Impairment of a Loan," as
amended. Any specific reserves for impaired loans are measured based on the fair
value of the underlying collateral. The Company evaluates the collectibility of
both principal and interest when assessing the need for a specific reserve.
Historical loss rates are applied to other commercial loans not subject to
specific reserve allocations.
Homogenous loans, such as consumer installment and residential mortgage loans,
are not individually reviewed by management. Reserves are established for each
pool of loans based on the expected net charge-offs. Loss rates are based on the
average five-year net charge-off history by loan category.
Historical loss rates for commercial and consumer loans may be adjusted for
significant factors that, in management's judgment, reflect the impact of any
current conditions on loss recognition. Factors which management considers in
the analysis include the effects of the local economy, trends in the nature and
volume of loans (delinquencies, charge-offs, nonaccrual and problem loans),
changes in the internal lending policies and credit standards, collection
practices, and examination results from bank regulatory agencies and the
Company's internal credit review function.
An unallocated reserve is maintained to recognize the imprecision in estimating
and measuring loss when evaluating reserves for individual loans or pools of
loans.
Specific reserves on individual loans and historical loss rates are reviewed
throughout the year and adjusted as necessary based on changing borrower and/or
collateral conditions and actual collection and charge-off experience.
The Company has not substantively changed any aspect of its overall approach in
the determination of the allowance for loan losses since January 1, 2002. There
have been no material changes in assumptions or estimation techniques as
compared to prior years that impacted the determination of the current year
allowance.
COMPARISON OF OPERATING RESULTS FOR THE THREE MONTHS ENDED SEPTEMBER 2002 AND
2001
The Company reported net income of $1,255,000 and $1,142,000 for the three
months ended September 30, 2002 and 2001, respectively. During the same periods,
basic and diluted earnings per share were $.42 and $.38, respectively. On an
annualized basis, return on average assets was 1.63% and return on average
equity was 15.76% for the three months ended September 30, 2002, compared to
1.57% and 15.73%, respectively, for the comparable period in 2001.
9
Net interest income for the three months ended September 30, 2002, was
$3,483,000, an increase of $479,000, or 15.9%, compared to net interest income
of $3,004,000 for the comparable period in 2001. Net interest margin was 4.83%
for the three months ended September 30, 2002, compared to 4.55% for the
comparable period in 2001. The average annualized yield on earning assets
decreased to 7.45% for the three months ended September 30, 2002, from 8.68% for
the comparable period in 2001. The average cost of interest-bearing funds was
3.10% for the three months ended September 30, 2002, a decrease from 4.65% for
the comparable period in 2001.
The provision for loan losses was $138,000 and $52,000 for the three months
ended September 30, 2002 and 2001, respectively, representing an increase of
165.4%. Net charge-offs for the three months ended September 30, 2002 were
$38,000, compared to $42,000 experienced during the three months ended September
30, 2001. Management increased the provision for loan losses to reflect the
increased loan volume and estimates of probable loan losses in 2002.
Total noninterest income was $400,000 for the three months ended September 30,
2002, an increase of $12,000, or 3.1%, from $388,000 for the comparable period
in 2001. The increase is due to service charges on customers' deposit account
transactions.
Total noninterest expense was $1,887,000 for the three months ended September
30, 2002, an increase of $226,000, or 13.6%, from $1,661,000 for the comparable
period in 2001. Salaries and benefits expense comprises the largest component of
noninterest expense, with totals of $938,000 and $821,000 for the three months
ended September 30, 2002 and 2001, respectively.
COMPARISON OF OPERATING RESULTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2002 AND
2001
The Company reported net income of $3,428,000 and $3,322,000 for the nine months
ended September 30, 2002 and 2001, respectively. During each of the same
periods, basic and diluted earnings per share were $1.14 and $1.11,
respectively. On an annualized basis, return on average assets was 1.50% and
return on average equity was 14.36% for the nine months ended September 30,
2002, compared to 1.56% and 15.36%, respectively, for the comparable period in
2001.
Net interest income for the nine months ended September 30, 2002, was
$9,705,000, an increase of $845,000, or 9.5%, compared to net interest income of
$8,860,000 for the comparable period in 2001. Net interest margin was 4.48% for
the nine months ended September 30, 2002, compared to 4.37% for the comparable
period in 2001. The average annualized yield on earning assets decreased to
7.29% for the nine months ended September 30, 2002, from 8.50% for the
comparable period in 2001. The average cost of interest-bearing funds was 3.34%
for the nine months ended September 30, 2002, a decrease from 4.85% for the
comparable period in 2001.
The provision for loan losses was $367,000 and $168,000 for the nine months
ended September 30, 2002 and 2001, respectively, representing an increase of
118.5%. Net charge-offs for the nine months ended September 30, 2002 were
$165,000, compared to $83,000 experienced during the nine months ended September
30, 2001. Management increased the provision for loan losses during the first
nine months of 2002 to reflect the increased loan volume and estimates of
probable loan losses in 2002.
Total noninterest income was $1,131,000 for the nine months ended September 30,
2002, an increase of $83,000, or 7.9%, from $1,048,000 for the comparable period
in 2001. The increase is due to service charges on customers' deposit account
transactions.
10
Total noninterest expense was $5,419,000 for the nine months ended September 30,
2002, an increase of $534,000, or 10.9%, from $4,885,000 for the comparable
period in 2001. Salaries and benefits expense comprises the largest component of
noninterest expense, with totals of $2,684,000 and $2,511,000 for the nine
months ended September 30, 2002 and 2001, respectively.
FINANCIAL CONDITION
The Company's total assets increased to $310.8 million as of September 30, 2002
from $304.9 million as of December 31, 2001, an increase of 1.9%. Increases of
$6.3 million in securities available for sale and $24.4 million in loans in the
nine months ended September 30, 2002 were offset by a decrease of $25.3 million
in cash and cash equivalents, including a decrease of $16.6 million in federal
funds sold. The decrease in cash and cash equivalents is primarily due to loan
growth and the purchase of investment securities.
LOANS AND ALLOWANCE FOR LOAN LOSSES
The Company reported total loans of $248.1 million as of September 30, 2002 and
$223.7 million as of December 31, 2001, an increase of $24.4 million, or 10.9%.
The portfolio composition has remained relatively consistent during the period.
Federal regulations and generally accepted accounting principles require that
the Company establish prudent allowances for loan losses. The Company maintains
an allowance for loan losses to absorb probable loan losses inherent in the
portfolio, based on evaluations of the collectibility and historical loss
experience of loans. Loan losses are charged and recoveries are credited to the
allowance. Provisions for loan losses are based on management's review of the
historical loan loss experience and such factors which, in management's
judgment, deserve consideration under existing economic conditions in estimating
probable loan losses. The allowance is based on ongoing assessments of the
probable estimated losses inherent in the loan portfolio. The Company has not
substantively changed any aspect of its overall approach in the determination of
the allowance for loan losses during 2002. There have been no material changes
in assumptions or estimation techniques as compared to prior years that impacted
the determination of the current year allowance.
The allowance for loan losses was 0.87% of total loans as of September 30, 2002
and 0.88% as of December 31, 2001.
The amount of nonaccrual loans decreased to $288,000 as of September 30, 2002,
compared to $334,000 as of June 30, 2002, and $383,000 at December 31, 2001. As
a percentage of total loans, nonaccrual loans represented 0.12% as of September
30, 2002, 0.14% as of June 30, 2002, and 0.17% as of December 31, 2001.
The category of accruing loans which are past due 90 days or more was $1,150,000
as of September 30, 2002, $1,523,000 as of June 30, 2002, and $1,649,000 as of
December 31, 2001. As a percentage of total loans, loans past due 90 days and
still accruing interest represented 0.46% as of September 30, 2002, 0.64% as of
June 30, 2002, and 0.74% as of December 31, 2001.
As a percentage of the allowance for loan losses, total nonaccrual loans and
loans past due 90 days or more were 66.5% as of September 30, 2002, 90.0% as of
June 30, 2002, and 103.7% as of December 31, 2001.
DEPOSITS
Deposits totaled $253.2 million as of September 30, 2002, a decrease of $9.4
million, or 3.6%, from $262.6 million as of December 31, 2001. The decrease is
primarily due to the withdrawal of public deposits from a local municipality.
11
FHLB BORROWINGS
Federal Home Loan Bank borrowings increased $8.5 million to $17.5 million as of
September 30, 2002 from $9.0 million as of December 31, 2001. The additional
borrowings were primarily used to fund the purchase of municipal securities
classified as available for sale.
LIQUIDITY AND CAPITAL RESOURCES
The declaration and payment of dividends by the Company are subject to the
discretion of the Board of Directors and to the earnings and financial condition
of the Company and applicable laws and regulations. The Company paid $840,000
and $720,000 in dividends during the nine months ended September 30, 2002 and
2001, respectively.
At September 30, 2002, consolidated Tier 1 risk based capital was 14.0%, and
total risk-based capital was 14.9%. The minimum Tier 1 and total risk-based
capital ratios required by the Board of Governors of the Federal Reserve are 4%
and 8%, respectively.
Effective liquidity management ensures that the cash flow requirements of
depositors and borrowers, as well as company cash needs, are met. The Company
manages liquidity on both the asset and liability sides of the balance sheet.
Community bank liquidity management currently involves the challenge of
attracting deposits while maintaining positive loan growth at a reasonable
interest rate spread. The loan to deposit ratio at September 30, 2002 was 98.0%
compared to 85.2% as of December 31, 2001. Loans to total assets were 79.8% at
September 30, 2002 compared to 73.4% at the end of 2001. The securities
portfolio is available for sale and consists of securities that are readily
marketable. Approximately 56% of the available for sale portfolio is pledged to
secure public deposits, short-term and long-term borrowings and for other
purposes as required by law. The balance of the available for sale securities
could be sold if necessary for liquidity purposes. Also, a stable deposit base,
consisting of 88% core deposits, makes the Company less susceptible to large
fluctuations in funding needs. The Company also has both short- and long-term
borrowings capacity available through FHLB with unused available credit of
approximately $39.0 million as of September 30, 2002. The Company has the
ability to obtain deposits in the brokered certificate of deposit market to help
provide liquidity to fund loan growth, if necessary. Generally, the Company uses
short-term borrowings to fund overnight and short-term funding needs in the
Company's balance sheet. Longer-term borrowings have been primarily used to fund
mortgage-loan originations. This has occurred when FHLB longer-term rates are a
more economical source of funding than traditional deposit gathering activities.
Additionally, the Company occasionally uses FHLB borrowings to fund larger
commercial loans.
As of September 30, 2002, management is not aware of any current recommendations
by banking regulatory authorities which, if they were to be implemented, would
have, or would be reasonably likely to have, a material adverse impact on the
Company's liquidity, capital resources, or operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss arising from adverse changes in the fair value
of financial instruments due to variations in interest rates, exchange rates,
equity price risk and commodity prices. The Company does not maintain a trading
account for any class of financial instrument, and is not currently subject to
currency exchange rate risk, equity price risk or commodity price risk. The
Company's market risk is composed primarily of interest rate risk.
The major source of the Company's interest rate risk is the difference in the
maturity and repricing characteristics between the Company's core banking assets
and liabilities - loans and deposits. This difference, or mismatch, poses a risk
to net interest income. Most significantly, the Company's core banking
12
assets and liabilities are mismatched with respect to repricing frequency,
maturity and/or index. Most of the Company's commercial loans, for example,
reprice rapidly in response to changes in short-term interest rates. In
contrast, many of the Company's consumer deposits reprice slowly, if at all, in
response to changes in market interest rates.
The Company's Senior Management is responsible for reviewing the interest rate
sensitivity position of the Company and establishing policies to monitor and
limit exposure to interest rate risk. The guidelines established by senior
management are approved by the Company's Board of Directors. The primary goal of
the asset/liability management function is to maximize net interest income
within the interest rate risk limits set by approved guidelines. Techniques used
include both interest rate gap management and simulation modeling that measures
the effect of rate changes on net interest income and market value of equity
under different rate scenarios.
In the Company's simulation models, each asset and liability balance is
projected over a time horizon. Net interest income is then projected based on
expected cash flows and projected interest rates under a stable rate scenario
and analyzed. The results of this analysis are factored into decisions made
concerning pricing strategies for loan and deposits, balance sheet mix,
securities portfolio strategies, liquidity and capital adequacy.
Simulation models are also performed under an instantaneous parallel 200 basis
point increase or decrease in interest rates. The model includes assumptions as
to repricing and expected prepayments, anticipated calls, and expected decay
rates of transaction accounts under the different rate scenarios. The results of
these simulations include changes in both net interest income and market value
of equity.
The Company's rate shock simulation models provide results in extreme interest
rate environments and results are used accordingly. Reacting to changes in
economic conditions, interest rates and market forces, the Company has been able
to alter the mix of short and long-term loans and investments, and increase or
decrease the emphasis on fixed and variable rate products in response to
changing market conditions. By managing the interest rate sensitivity of its
asset composition in this manner, the Company has been able to maintain a fairly
stable flow of net interest income.
Complicating management's efforts to control non-trading exposure to interest
rate risk is the fundamental uncertainty of the maturity, repricing, and/or
runoff characteristics of some of the Company's core banking assets and
liabilities. This uncertainty often reflects options embedded in these financial
instruments. The most important embedded options are contained in consumer
deposits and loans.
For example, many of the Company's interest bearing retail deposit products
(e.g., interest checking, savings and money market deposits) have no contractual
maturity. Customers have the right to withdraw funds from these deposit accounts
freely. Deposit balances may therefore run off unexpectedly due to changes in
competitive or market conditions. To forestall such runoff, rates on interest
bearing deposits may have to be increased more (or reduced less) than expected.
Such repricing may not be highly correlated with the repricing of prime
rate-based or U.S. Treasury-based loans. Finally, balances that leave the
banking franchise may have to be replaced with other more expensive retail or
wholesale deposits. Given the uncertainties surrounding deposit runoff and
repricing, the interest rate sensitivity of core bank liabilities cannot be
determined precisely.
Management believes as of September 30, 2002, there have been no material
changes in the Company's interest rate sensitive instruments which would cause a
material change in the market risk exposures which affect the quantitative and
qualitative risk disclosures as presented in the Company's Form 10 filed for the
period ended December 31, 2001.
13
ITEM 4. CONTROLS AND PROCEDURES
Within the 90 days prior to the date of this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of the Company's
disclosure controls and procedures pursuant to Exchange Act Rule 13a-14. Based
upon that evaluation, the Chief Executive Officer and Chief Financial Officer
concluded that the Company's disclosure controls and procedures are effective in
timely alerting them to material information relating to the Company (including
its consolidated subsidiaries) required to be included in the Company's periodic
SEC filings.
There were no significant changes made in the Company's internal controls or in
other factors that could significantly affect these internal controls subsequent
to the date of the evaluation performed by the Company's Chief Executive Officer
and Chief Financial Officer.
FORWARD-LOOKING STATEMENTS
Certain of the statements contained herein that are not historical facts are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act. Economic circumstances, the Company's operation and the
Company's actual results could differ significantly from those discussed in the
forward-looking statements. Forward-looking statements are typically identified
by words or phrases such as "believe," "expect," "anticipate," "intend,"
"estimate," "may increase," "may fluctuate," and similar expressions or future
or conditional verbs such as "will," "should," "would" and "could." These
forward-looking statements involve risks and uncertainties including, but not
limited to, economic conditions, portfolio growth, the credit performance of the
portfolios, including bankruptcies, and seasonal factors; changes in general
economic conditions including the performance of financial markets, the prices
of crops, prevailing inflation and interest rates, and losses on lending
activities; results of various investment activities; the effects of
competitors' pricing policies, of changes in laws and regulations on competition
and of demographic changes on target market populations' savings and financial
planning needs; industry changes in information technology systems on which we
are dependent; and the resolution of legal proceedings and related matters. In
addition, the policies and regulations of the various regulatory authorities
could affect the Company's results. These statements are representative only on
the date hereof, and the Company undertakes no obligation to update any
forward-looking statements made.
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS - The following exhibits are filed as a part of this report:
Exhibit No. Description
----------- -----------
3.1 Amended and Restated Articles of Incorporation of Merchants Bancorp,
Inc. (Incorporated by reference to the Registration Statement on Form
10 filed on April 30, 2002.)
3.2 Code of Regulations of Merchants Bancorp, Inc. (Incorporated by
reference to the Registration Statement on Form 10 filed on April 30,
2002.)
4. Instruments Defining the Rights of Security Holders. (See Exhibit 3.)
14
99.1 Certification pursuant to 18 U.S.C. section 1350, as enacted pursuant
to section 906 of the Sarbanes-Oxley Act of 2002.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MERCHANTS BANCORP, INC.
Date: November 14, 2002 By: /s/ Paul W. Pence, Jr.
----------------------
Paul W. Pence, Jr., Chief
Executive Officer and Principal
Financial Officer
CERTIFICATION OF PRINCIPAL EXECUTIVE AND FINANCIAL OFFICER
I, Paul W. Pence, Jr., certify that:
1. I have reviewed this quarterly report on Form 10-Q of Merchants
Bancorp, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c) Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
15
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a) All significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in the
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
Date: November 14, 2002 By: /s/Paul W. Pence, Jr.
---------------------
Chief Executive Officer and
Principal Financial Officer
16
10-Q EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION
99.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to section 906 of the Sarbanes-Oxley Act of 2002